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Fairbanks gas utility piles up profits without state regulation

Fairbanks Natural Gas has had a rich opportunity in recent years, thanks to a hands-off policy by the Regulatory Commission of Alaska.

The company serves about 1,100 customers in the Fairbanks area with natural gas for heating and cooking at rates more than three times higher than natural gas distributor ENSTAR in Southcentral Alaska.

Last year, Fairbanks Natural Gas (FNG) earned more money from every thousand cubic feet of gas that it sold, than customers of ENSTAR even paid for the same amount of gas, according to one measure of earnings.

There are higher costs to process and transport natural gas from Cook Inlet to Fairbanks by truck and distribute it through a network of buried pipes, but not that high.

In a traditional, regulated utility, a company buys natural gas and charges the consumer on a pass-through basis, with rates rising or dropping every three months, depending upon supply contracts.

Fairbanks Natural Gas has not been under that restriction because its rates have not been subject to RCA regulation. While gas prices have dropped, its rates have not.

A change is coming. Under terms of a settlement reached in late 2012, the RCA plans to regulate FNG after a cost study is completed next year.

Fairbanks Natural Gas profits came under scrutiny this week in a RCA hearing in Anchorage to decide whether the private company or the new Interior Gas Utility will be allowed to provide natural gas service to neighborhoods on the outskirts of Fairbanks.

Fairbanks Natural Gas has had the right to serve the main urban area for more than 15 years and will retain that territory. The company and the Interior Gas Utility are competing for the right to serve outlying areas.

Most of Fairbanks depends on heating oil, which is running close to $4 a gallon. Fairbanks Natural Gas says its natural gas prices are a bargain because they are about $5 below what it would cost to buy the same amount of energy using heating oil.

One measure of profit is to calculate earnings before interest, taxes, depreciation and amortization, known as EBITDA.

At the hearing this week, Robin Brena, the Anchorage attorney representing the Fairbanks public utility, said EBITDA profits for FNG totaled $6.8 million in 2012.

During a cross-examination of Hendrik Vroege, one of the Minnesota owners of the company, Brena said the company's earnings were $7.58 per thousand cubic feet of natural gas.

That is higher than the $7.45 per thousand cubic feet that ENSTAR charged its Southcentral customers in 2012. Fairbanks Natural Gas charges $23.35 for the same amount of gas, a rate that has not changed for five years. In an exchange at the RCA hearing, Commissioner Robert Pickett said that for the last few years, FNG has “had a very rich return on investment” as an unregulated utility.

Vroege, the representative of the Minnesota owners, replied, “The last couple of years have been good.”

Questions about the right balance between profits and service arose many times during the course of the hearing.

“Do you have a duty to serve over your duty to optimize profits?” Brena asked Fairbanks Natural Gas President Dan Britton at one point.

“We have a duty to serve that results in sustainable economics,” Britton said.

“If you can serve 100 more people, but you have to decrease the profit margin, do you have a duty to serve those 100 more people?” Brena asked Britton.

“Not an unqualified duty to serve, no,” Britton said,

These issues play a role in the RCA's duty to set ground rules for future natural gas delivery in Fairbanks. Had Fairbanks Natural Gas lowered its rates in recent years, expanded its storage facilities and hooked up more customers in the urban center, the public utility would never have been founded.

Fairbanks Natural Gas defends its rates by saying they are 20 percent below heating oil and that it did not hook up more customers because it could not get gas-supply contracts from Cook Inlet.

Fairbanks Natural Gas says that the public entity should not be taken seriously because it is a shell corporation with no assets and relies on state financial assistance that will not materialize. But that argument is not convincing.

The public utility, which has a volunteer board, claims that Fairbanks Natural Gas ought to have invested in additional storage facilities and had the option of supplying thousands more homes, but chose not to do so.

When 100 times more gas than is used by Fairbanks was being exported from Cook Inlet to Japan, FNG did not object or argue that some of the gas should have been burned in Fairbanks, the Interior Gas Utility says.

At a minimum, the work done by the Interior Gas Utility should lead the RCA to set conditions so that whichever entity is granted the new service territory, a priority must be placed on low prices and serving as many people as possible -- not on high profits and focusing on high-volume customers.

In addition, the RCA should insist on a schedule to expand the system and build storage for emergencies.

As part of its rate regulation work, the commission must look into recent actions in Minnesota to change the control of Fairbanks Natural Gas and the decisions by the company to transfer part of its existing business, including its liquefaction plant at Point MacKenzie, to new sister companies that won’t be subject to rate regulation.

Additional profits could be built into inter-company transactions, leading to higher prices for consumers unless the RCA is vigilant.

Pickett told Vroege that the RCA will look closely at contracts with sister companies. “Sometimes one has a sense there may be a bit of ‘hide the ball,’” he said.

In response, Vroege said, “It’s absolutely not our intent to hide the ball in any way. You have my commitment to have full openness in that respect.”

With the state poised to subsidize infrastructure on the North Slope for a gas-trucking operation and provide financing assistance for expanding distribution in Fairbanks, the goal of maximizing the public benefit should be at the forefront.